Paying off the mortgage. Good idea?

[LMA]

I am considering purchasing a home and instead of getting a mortgage just paying cash for it. I really like the idea of not having a mortgage and owning the home me and my family live in. However, the investor in me does not like the idea and here is my logic.

I am going to purchase a house for $200,000 and I have that amount of money sitting right now invested in mutual funds and making me a 10% return. If I leave that money invested then compound interest on that amount will give me $329,061 in 5 years.

If on the other hand I use that $200,000 to buy a house and then take the amount that I would have been paying in mortgage payments, about $1,200 per month, and put it back into my investments every month, after 5 years I would have $92,924 plus a house worth...say $$230,000-$240,000 (assuming 3% appreciation) for a total combined worth of $322,000 give or take.

So it comes down to...is it worth giving up the investment returns for the peace of mind of owning your home and being debt free?

Is there another angle that I am missing here?

[disneysteve]

I think you're missing the element of risk.

IF your mutual funds continue to have a 10% annual return, your numbers are correct. But what if the return next year is only 7% or 3% or -5%? You are projecting a gain of $7,000 over 5 years if the 10% return holds up. That's not a lot of money - only $1,400/year - and that's only with a consistent 10% return. We all know that investment returns are not linear. A fund may be up 12% one year, down 6%a the next year, up 9% the year after, etc.

You have to decide if a sure thing is worth the possible loss of a few thousand dollars, but keep in mind that the investment route could easily turn out to cost you a few thousand dollars if returns dip lower.

[Petunia 100]

You are not making a good comparison. If you buy the house, it will go up or down in value whether you have a mortgage or not. You will own the house whether you have a mortgage or not.

You cannot compare the 329k projected value of your 200k to your 322k projected total worth as if they are equivalent. Why? You are ignoring the house in the first scenario, but including it in the second.

A better comparison is:

1. Buy the 200k house with nothing down, keep your 200k invested, and in 5 years you have a house worth 230k (your guess), a porfolio worth 329k (your guess), and mortgage debt of 185k (my guess). You have paid out $1200 per month.

2. Buy the house with cash, in 5 years you have a house worth 230k (your guess), a portfolio worth 93k (your guess), and no mortgage debt. You have paid out $1200 per month.

[parafly]

How about a "best of both worlds" approach?

Keep $100K invested in mutual funds and put down $100K on your home. Your mortgage payment will be reduced significantly, your monthly expenses will be loosened for future investing, and you won't be going "all in" on your home. You would be splitting the investment risk between both vehicles.

[greenskeeper]

I would pay cash for the home and then apply "mortgage payments" towards your investments. Times are certainly not what they used to be and a house free-and-clear is priceless.

[mrpaseo]

I would pay cash for the home and then apply "mortgage payments" towards your investments. Times are certainly not what they used to be and a house free-and-clear is priceless.

This is the approach I took with our home/vehicles. Looking forward we had two options:

1) Have a mortgage and thus more bills.

2) Have no mortgage and thus need less income.

With the unknown future of our economy, we could not guarantee income. Paying off the house guaranteed less money would be needed. The decision was easy.

In addition, the feeling of having the mortgage paid off is amazing.

Good luck with your decision.

[LMA]

I think you're missing the element of risk.

IF your mutual funds continue to have a 10% annual return, your numbers are correct. But what if the return next year is only 7% or 3% or -5%? You are projecting a gain of $7,000 over 5 years if the 10% return holds up. That's not a lot of money - only $1,400/year - and that's only with a consistent 10% return. We all know that investment returns are not linear. A fund may be up 12% one year, down 6%a the next year, up 9% the year after, etc.

You have to decide if a sure thing is worth the possible loss of a few thousand dollars, but keep in mind that the investment route could easily turn out to cost you a few thousand dollars if returns dip lower.

This is why I wanted to ask the question...

You are right I am assuming 10% just because that is the return that I have gotten over the last 10 years or so. But it could very well be 13% or 4% or -3%...with the stock market anything is possible

However I am not sure where you get the $7,000 gain over 5 years...If we assume a 5% return I would still get $256,000 in 5 years. I used a compound interest calculator http://www.investor.gov/tools/calcul...est-calculator

[LMA]

You are not making a good comparison. If you buy the house, it will go up or down in value whether you have a mortgage or not. You will own the house whether you have a mortgage or not.

You are right about the value of the house but not about owning the home (if I understand you right). When you have a mortgage you don't own the home, just an equity position...

You cannot compare the 329k projected value of your 200k to your 322k projected total worth as if they are equivalent. Why? You are ignoring the house in the first scenario, but including it in the second.

I understand but the reason I did that is because I would not purchase the house if I had to get a mortgage. The only way I would purchase the house is if I could buy it cash, since I have no urgency to move. That is why one scenario includes the house and the other one does not.

[LMA]

How about a "best of both worlds" approach?

Keep $100K invested in mutual funds and put down $100K on your home. Your mortgage payment will be reduced significantly, your monthly expenses will be loosened for future investing, and you won't be going "all in" on your home. You would be splitting the investment risk between both vehicles.

Good thinking

I thought about this but I recognized that I will also not get the full benefit of either option because now instead of putting the $1200 towards investing I would be putting about $600 and paying mortgage interest.

[LMA]

This is the approach I took with our home/vehicles. Looking forward we had two options:

1) Have a mortgage and thus more bills.

2) Have no mortgage and thus need less income.

With the unknown future of our economy, we could not guarantee income. Paying off the house guaranteed less money would be needed. The decision was easy.

In addition, the feeling of having the mortgage paid off is amazing.

Good luck with your decision.

YES!! this is what I am thinking of. I did not mention this in my first post but there is the intangible aspect of freedom of not only being debt free but not needing to make as much income because I have a mortgage to pay. I understand that the aspect of freedom and peace of mind is very hard to quantify.

I am not really concerned about the economy, it will always be changing and I am powerless to do anything about it all I can do is make sure that I am ready to deal with whatever life (or the economy) bring...

[dunnrobert700]

10% sustained returns on mutual funds is nearly inconceivable in the current environment without a ton of risk. It is impossible to make 10% "expected return" which is the risk adjusted return and is what you would need to assume apps-to-apples with self funding a mortgage which is effectively a guaranteed 4% or whatever mortgage rates are.

It is almost certainly the case that running the real numbers will put buying the house cash way ahead.

[Petunia 100]

You are right about the value of the house but not about owning the home (if I understand you right). When you have a mortgage you don't own the home, just an equity position...

When you purchase real estate, you go through escrow. When escrow closes, legal ownership transfers to the buyer and a grant deed is recorded. This is true whether or not the buyer took a mortgage.

Or are you saying that philosophically, you feel you do not truly own something until the you own it free of any encumbrances?

I understand but the reason I did that is because I would not purchase the house if I had to get a mortgage. The only way I would purchase the house is if I could buy it cash, since I have no urgency to move. That is why one scenario includes the house and the other one does not.

I can see your point. However, if you want to evaluate a decision mathematically, you must use real numbers. The home does not cease to have any value merely because there is a mortgage.

If you feel strongly that you want to buy the home outright, then do it. You have the money available.

[Gailete]

I think it would be terrific to own a home free and clear I think it would lower stress levels for all that live in the house. Obviously you will still get tax assessments, etc. but still to not have to come up with $1200 monthly is a freeing thing. It gives you the ability to tell the boss to shove it if needed. It gives you a chance to go volunteer somewhere without worrying about the mortgage. We are below $80K owing at this point and I can hardly wait until it is gone and half my SSD isn't going to pay off the place.

To me it isn't even a math problem but a life problem. Do you want to be making housing payments for who knows how long or do you want to be free of them and thus free to look at your life in a different way. And by the way, congratulations on having the money saved to be able to do this!!!!

[LMA]

10% sustained returns on mutual funds is nearly inconceivable in the current environment without a ton of risk. It is impossible to make 10% "expected return" which is the risk adjusted return and is what you would need to assume apps-to-apples with self funding a mortgage which is effectively a guaranteed 4% or whatever mortgage rates are.

It is almost certainly the case that running the real numbers will put buying the house cash way ahead.

Yes, good point. The fact that I have gotten a 10% return does not mean I am going to keep on getting one.

However, even if it was a 5% return I would still come out ahead.

What would you consider running the "real numbers" like you say?

[parafly]

Some other considerations:

Cashing out the entire $200K in mutual funds will eliminate the compounding interest factor of your investments. In essence, you will be "starting over" and won't allow your high balance to work in your favor. It could take a relatively long time to get your funds back to these levels even if funded aggressively.

Since mortgage interest is tax deductible, the effective interest rate on your mortgage will be significantly lower than the perceived 3.5% if you itemize your deductions. Given current rates and tax laws, a mortgage can be viewed as being fairly close to "free money."